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Minimizing your risk of GAAP-related post-close disputes

October 25, 2019 / 4 min read

Looking to avoid post-close disputes on your next transaction? These modifications to a common GAAP provision could help minimize your risk of, or even avoid, disputes.

The close date for a transaction can be the beginning of a complicated and potentially contentious post-close process between buyers and sellers. Post-close disputes often originate from disagreements between each party over the calculation of working capital adjustments to the purchase price, or an earnout payment. One of the most common disputes relates to the interpretation and application of the following wording: “ … in accordance with generally accepted accounting principles (GAAP) applied in a manner consistent with past practices.”

Contention can arise when components of this provision are interpreted differently…

The inclusion of this provision, worded in this manner, inevitably invites disagreement between the parties to a deal. Contention can arise when components of this provision are interpreted differently, and when:

Any, and or all, of these disagreements can arise when buyers or sellers calculate the working capital amount or the earnout payments in the post-close period.

More specificity in the wording of this provision would minimize the various interpretations and reduce the likelihood of a post-close dispute.

Buyers and sellers should consider incorporating the following modifications to the GAAP provision:

For example, if a deal involving a private company closed in 2018, the historical revenue recognition practices this company would be required to adhere to would be ASC 605; for any earnout period running through 2019, the revenue recognition criteria of the company would change with the implementation of ASC 606. Without any clarification provided in the purchase agreement regarding which ASC is applicable to the earnout period calculation, the parties to this calculation could end up in a dispute over which ASC is applicable, — especially if the difference in the application of the standards to the earnout calculation amount is significant.

Including these modifications in a purchase agreement post-closing calculation provision may not completely eliminate post-close disputes between parties, but they certainly can minimize the risk of disputes. If a dispute does happen from the post-close calculation, the implementation of these modifications can also enhance the strength of a party’s position if they were to enter the arbitration process, depending on a party’s perspective and whether it intended for the company’s past accounting practices or GAAP to be applied to any post-closing amount calculations.

If you would like to discuss potential post-close disputes, please reach out to our team today.

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